Business Context and Reporting Period
Company: Sequans Communications S.A.
Filing Type: Form 6-K (Report of Foreign Private Issuer)
Reporting Period: Unaudited condensed consolidated financial statements for the three and six months ended June 30, 2016.
Filing Date: September 14, 2016
Business Overview: Sequans is a fabless designer, developer, and supplier of single-mode 4G LTE semiconductor solutions for wireless broadband applications, including baseband processors and RF transceivers. The company operates in a single segment focused on 4G broadband wireless systems.
Key Financial Metrics
| Metric (in thousands) | 3 Months Ended June 30, 2016 |
6 Months Ended June 30, 2016 |
|---|---|---|
| Total Revenue | $9,884 | $19,169 |
| Gross Profit | $4,413 | $8,823 |
| Gross Margin | 44.6% | 46.0% |
| Operating Loss | $(5,732) | $(10,928) |
| Net Loss | $(5,061) | $(14,290) |
| Loss Per Share (Basic & Diluted) | $(0.09) | $(0.24) |
| Cash and Cash Equivalents | $7,122 (as of June 30, 2016) | |
| Total Debt (Convertible & Financing) |
Debt Structure: As of June 30, 2016, the company held $14.6 million in non-current convertible debt and accrued interest, and $2.1 million in current interest-bearing receivables financing.
Material Changes vs. Prior Period
- Revenue Growth: Total revenue increased 32% for the three months and 56% for the six months ended June 30, 2016, compared to the same periods in 2015. Product revenue grew 23% (Q3) and 28% (YTD), driven by LTE chipset and module sales. Other revenue surged 74% (Q3) and 192% (YTD) due to increased service agreements.
- Profitability Improvement: Gross profit increased 62% (Q3) and 90% (YTD). Gross margin improved from 36.3% to 44.6% (Q3) and from 37.8% to 46.0% (YTD), attributed to better absorption of fixed costs and product cost structure improvements.
- Operating Expenses: Total operating expenses rose 16% (Q3) and 5% (YTD). Research and Development (R&D) expenses increased due to higher headcount (204 employees in R&D vs. 166 in 2015). General and Administrative expenses increased 37% (Q3) due to a non-recurring dispute settlement charge and recruiting fees.
- Net Loss Reduction: Net loss decreased 28% for the quarter and 5% for the six-month period. This improvement was significantly aided by a $1.5 million gain (Q3) and $1.6 million gain (YTD) from the change in fair value of convertible debt embedded derivatives, offsetting higher interest expenses.
- Cash Flow: Net cash used in operating activities improved dramatically from $(11.8) million (YTD 2015) to $(0.4) million (YTD 2016), driven by a lower operating loss and favorable working capital changes (decrease in receivables, increase in payables).
Guidance, Outlook, and Risks
- Liquidity Outlook: Management believes existing cash ($7.1 million) plus cash generated from operations, government funding, and potential capital markets financing will be sufficient for at least the next 12 months from June 30, 2016. The financial statements are prepared on a going concern basis.
- Business Trends: The company is transitioning from WiMAX (no sales in 2016) to LTE products, specifically for machine-to-machine (M2M) and Internet of Things (IoT) applications. Volume shipments of LTE products increased to 1 million units in the first half of 2016.
- Convertible Debt: The company issued $7.16 million in convertible notes in April 2016. These notes carry a 7% annual interest rate paid in kind and contain embedded derivatives that impact earnings volatility based on fair value changes.
- Risks:
- Currency Exposure: Nearly 100% of revenue is in USD, while ~60% of operating expenses are in Euros. A 10% fluctuation in the USD/EUR rate could impact operating expenses by approximately $1.2 million.
- Customer Concentration: One China-based customer represented 29% of revenue for the six months ended June 30, 2016. Several other significant customers are also based in China.
- Market Dependence: Revenue is dependent on the timing of customer product launches and LTE network deployments.
Key Facts for Investor Verification
- Revenue Concentration: Verify the stability of the top China-based customer (29% of YTD revenue) and the sustainability of the new distributor relationships.
- Non-Recurring Items: Assess the impact of the $1.5 million gain from convertible debt derivatives and the non-recurring dispute settlement charge on the true operating performance.
- Cash Burn Rate: Monitor the reduction in cash and cash equivalents from $8.3 million (Dec 2015) to $7.1 million (June 2016) and the company's ability to fund R&D without immediate equity dilution.
- Debt Covenants: Review the terms of the $14.6 million convertible debt, specifically the conversion prices ($1.85 for 2015 notes, $2.71 for 2016 notes) and potential dilution upon conversion.
- Inventory Valuation: Note that WiMAX inventory was written down to zero in 2015; verify that no new provisions are needed for slow-moving LTE inventory as the product mix shifts.